9/14/2009 @ 6:00AM

Get Briefed: Jean-Marie Eveillard

Jean-Marie Eveillard is the senior adviser and a member of the board of trustees at First Eagle Funds. Eveillard is also a senior vice president of Arnhold and S. Bleichroeder Advisers, LLC.

Eveillard began his career at Societe Generale in 1962 and later became part of the SoGen International Fund. He was appointed portfolio manager of that fund in 1979, which was later called First Eagle Global Fund. Since becoming First Eagle Global Fund, Eveillard has been managing First Eagle Overseas and First Eagle Gold Funds, which both started in 1993, and the First Eagle U.S. Value Fund starting in 2001.

Eveillard was named Morningstar’s International Manager of the Year in 2001, and in 2003 received a Lifetime Achievement Award from Morningstar for building one of the most successful long-term records in the investment business.

Forbes: In April you sounded quite bullish on Japan, saying the Japanese market is priced at Great Depression levels. What do you think of this a few months later, and what are some high quality Japanese names you like?

Jean-Marie Eveillard: I think it’s the same names we’ve liked over the past few months. There are some world-class industrial companies, it also means cyclical. Fanuc, which is best known for its robots. But in fact, most of the profits come from numerical controls for machine tools, basically software. It dominates the field worldwide. SMC, another name. It’s in the pneumatic equipment business, a machinery company. Which competes with
Parker Hannifin
in the U.S. I think both Fanuc and SMC, those two companies are the strongest in their field, worldwide. SMC been making life difficult for Parker Hannifin, by aggressively moving into the American market.

One advantage those Japanese companies have, is they don’t particularly care about next quarterly earnings. They genuinely take a long-term view of things. The emphasis on quarterly earnings if pushed too far may end up ruining American business. It’s another instance where management of companies should–nine times of 10–not listen to Wall Street.

Is Japan still priced at Great Depression prices?

Not quite as much as in April. The Tokyo stock market is up quite a bit in the past few months. But we still believe in Fanuc, SMC and a couple of pharmaceutical firms, like Astellas Pharma and Ono Pharmaceutical. We believe in a few property casualty insurance companies; their major characteristic is they are vastly overcapitalized. When they are asked why they have so much capital, they say their corporate clients want to be sure we’ll be there forever; that they are in a financial situation so extraordinary that they will never fail. Most of this excess capital is invested in Japanese equities. I believe the Japanese stock market is undervalued. This way you have a double discount.

Why is the Japanese market so underappreciated?

If you tell investors, local or foreign, that common stocks are the long-term investment of choice, it does not apply to Japanese stocks over last 20 years. Now they are between 70-75% below where it was 20 years ago. So local investors, foreign investors, institutions and individuals are thoroughly disgusted. They’ve been burned so many times over the past 20 years. The Tokyo stock market suffers from what I believe is undue neglect.

Then there is the issue of demographics, with the population aging and declining; 10-15 years down the road there will be nobody left in Japan, people say. If the population declines too much in future the number of old people in Japan will be a burden on young and middle aged people that will be horrific. I believe the Japanese will accept greater immigration. As you know, they see themselves as a special people, and are not particularly fond of gaijin. But better to increase immigration than have a gigantic tax burden.

Are Japanese firms well capitalized?

Yes, they are. Sometimes investors remember Japan in the ’70s and ’80s, when the economy was growing fast. Often firms were burdened with debt to finance growth. Today, it’s the opposite. Indeed, among smaller companies and also among some major ones, they have a tremendous amount of excess cash. Americans used to make fun of them, those idiots are sitting on tons of cash that yield nothing. Until a year or two ago, American companies were doing what Wall Street wanted them to do: Optimizing their balance sheet, making acquisitions, buying back stock. Three to four years ago they were (buying back stock) at $50 a share, today the stock is at $20 a share. The number of optimized balance sheets will throw American companies into trouble.

Japanese management is sometimes guilty of poor allocation of capital. Not because they make stupid acquisitions and overpay, and not because they buy back their stock at its peak. Sometimes they neglect to buy back stock when it’s selling cheaply indeed. Nothing is perfect, and that’s a sin which I have been willing to forgive–excess conservatism, as opposed to excess aggressiveness. Today to have very sound balance sheet is a tremendous advantage. It is one of the strengths that will allow some companies to gain at the expense of other companies burdened with debt.

Recently you were also fairly negative on the financial sector, although you liked
United Overseas Bank
. Given the strong performance of financials in the past few months what do you think about this sector now? And what names do you like?

It continues to be as opaque as it was a year or two or three ago. I’m old enough now–I’m going to be 70 next January–to remember when banking was a simple and fairly transparent business. You took deposits and made loans. And then in the big credit boom, which lasted from the early ’80s until a year or two ago, the banking changed, and to my mind, already 10 or 15 years ago, banks became disguised hedge funds. You had proprietary trading. If there is no transparency then I’m not going to invest other people’s money in securities of companies where their financials are somewhat opaque. Who knows how much toxic assets remain on the balance sheets of many financial businesses?

We’ve made some exceptions. We own Amex, and
M&T Bank
.

A wave of adjustable rate mortgages are set to reset in the spring of 2010. What kind of impact will that have on financial markets?

It’s not going to be helpful. But it seems to me the key is elsewhere. The best explanation for the financial crisis is not provided by the two schools of economics that dominated the post WWII period; Keynesians, or post Keynesians, who were discredited in the ’70s, and then Milton Friedman emerged. Both dominated the post WWII scene. The best explanation for the financial crisis is not provided by the Keynesians, or the Friedmans. It’s proposed by the Austrian School. In the ’20s they pointed out that it is not enough to have prosperity or low inflation. Monetary authorities have to be careful to not let a credit boom go on too long. Credit busts follow credit booms as night follows day.

To speak to Mr. Greenspan, we had a gigantic credit boom, over the past five to 10 years, then we got the credit bust. As night follows day. Greenspan was the worst fed chairman, although Bernanke may provide some competition. He didn’t pay attention to the credit boom and we got the credit bust.

ARMS, how bad will it get?

It depends on the overall circumstances. The risk is at the end of this year, the beginning of next. Are we going to have an economic recovery that peters out quickly, or are we going to have an economic recovery that is fairly typical for the post WWII standard? Meaning, after a recession it goes on for three-to-five years. I don’t pretend to have the answer to that. I suspect most investors, or economists, or businessmen, or politicians, did not see the crisis coming–Bernanke was late–and tend to assume a post WWII landscape endures.

That’s possible. It’s also possible the landscape changes and the recovery peters out the Japanese people did not like what happening to them in the ’90s, but they resigned themselves to it. For better or worse, there is no spirit of resignation in American people today. Obama was elected by people who thought he could turn the economy around. If he does not turn it around next year, then there will be another stimulus, then another one, until creditors start having doubts about the credit of Washington.

Gold is near the top of the holdings for all the First Eagle funds. You have called gold “calamity insurance.” How do you feel about gold now? What calamities are to come?

I think I’ve often quoted the late Peter Bernstein, who said it’s insurance against extreme outcomes. But I am not wedded to gold. The time may come when my successor decides this insurance is not needed, or the premium is too expensive. Already at $950 an ounce, it’s expensive. That’s one reason why I am not among those who believed the deleveraging is a return to the Great Depression. We have been in a pure paper money system since 1971, when Richard Nixon closed the gold window. In a pure paper money system there are no constraints on monetary authority. Bernanke wrote papers when an academic and said in a pure paper system you can increase nominal spending and prevent a return to the Great Depression. You can print money and there are no limits to that!

It is a possibility that the economic recovery peters out next year, so then there is another stimulus plan. But then the Fed print so much money, and the budget deficit is so large, that currencies become suspect. If you look at the monetary systems prevailed past 100 years it was gold until WWI, then the gold exchange standards from WWI to WWII. Then Breton woods from 1945-71. We’ve had a pure paper system for almost 40 years, it seems like it’s fraying at the edges. And history is not inspiring.

In the U.S. you had the Continental, which was how the dollar was characterized after Civil War. There was the Weimer republic after WWI. On a contemporaneous basis you have Zimbabwe.

In the Weimer republic, once it was obvious to monetary authorities that they were on an inflationary path, government made it difficult to buy hard assets. Gold and housing were heavily taxed. There is an anecdote, whereby some wealthy farmers in desperation bought grand pianos as hard assets. One of the few hard assets the government did not prevent you from owning. In a barn a farmer would have seven to 10 grand pianos even though nobody played the piano. There was inflation at the beginning of Weimer Republic, but for a while stocks kept up because they were looked at as real assets. When this became hyperinflation stocks could not keep up anymore. The people early in the years of the Weimer Republic who were ruined were people on fixed incomes. This applied to a good chunk of the middle class. Of course this helped Hitler come to the fore.

I’m not saying this is what’s around the corner for the Americans or Japanese. I’m saying there’s risk, we are no longer in the post WWII landscape. The future is particularly uncertain.

What is one misplaced assumption in business today?

That soon enough, thanks to monetary and fiscal stimulus we will be back to the old days. This may be misplaced. I am not sure it is.

What was the best financial lesson you’ve ever learned?

That value investing, no. 1, makes sense. And, no. 2, it works over time. Which of course raises the question, if it makes sense and works over time, how come professional value investors are only managing 5% of professionally managed money? I think the answer is mostly psychological. If you’re a value investor, you are a long-term investor. Benjamin Graham said that in the short term the stock market is a voting machine, in the long term it is a weighing machine.

We hold securities for five years. If you are a long-term investor you accept in advance that every now and again you will lag. You are not trying to keep up with your peers over a short-term basis. But to lag is to suffer. I’m not saying value investors are masochists. But I am saying value investors are willing to incur short-term pain to achieve long-term gain. Which is why a value investors approach is very close to that which Japanese and some American managements take, which is to say I should not listen to Wall Street or quarterly earnings. What matters is for me to protect and enhance the long-term prospects of the business. That kind of attitude is the company could be forever. I myself am mortal, of course, but the institution that I serve could be forever. This is why I have to protect the long-term view. Why I, the CEO, should try to enhance long-term prospects of the business.

Eveillard In Forbes

Investment Guide

Cash For Sale

Jon Bruner 07.03.08, 5:00 PM ET

Forbes Magazine dated July 21, 2008

Japanese corporations are sitting on a pile of undervalued cash and securities. Get your piece of it.

There’s money to be bought in Japan. After years of painful deflation and stock market stagnation, managers of many Japanese companies have amassed large stockpiles of cash and liquid securities–treasure chests that are, in many cases, undervalued by the stock market.

“The Japanese market tends to be more inefficient than the American and European markets,” says Jean-Marie Eveillard, who manages several First Eagle funds. “There is, in Asia, a trading mentality. But if you’re a value investor you can take advantage of this inefficiency.”

Eveillard’s First Eagle Global Fund, which has enjoyed a five-year annualized return of 18% (compared with 15% at MSCIs World Index), has been steadily increasing its positions in Japanese stocks to 21% of the fund, behind only U.S. stocks at 24%.

Among Eveillard’s Japanese picks: property and casualty insurers, which, he says, “are disguised investment companies because they are vastly overcapitalized.” These insurers keep their money in large portfolios of Japanese stocks, and Eveillard estimates that these companies trade at 30%-to-40% discounts to their adjusted book value–on top of the overall discounts in the undervalued Japanese stock market. “In a sense you get a double discount,” Eveillard says. “We look at these securities as the equivalent of buying the Tokyo Stock Exchange at a discount.”

Eveillard particularly likes Aioi Insurance and Nissay Dowa General Insurance. Their modestly profitable insurance businesses are scarcely a draw, and in fact they trade, respectively, at 31 and 40 times trailing earnings. But their stock portfolios are enticing.

Eveillard also sees cash-laden opportunities in the Japanese industrial sector. He cites heavy-industry exporters like SMC, which manufactures pneumatic equipment; Fanuc, a producer of automation systems; and Keyence, which makes sensing and measuring equipment. These three outfits are in cyclical industries, but all of them have conservative balance sheets–SMC has nearly five times as much cash as debt, and Fanuc and Keyence are debt free. Eveillard figures that they would still be undervalued even if profits fell 25% to 30%.

The rich cash position of Japanese companies is not quite as seductive to William Fries, whose Thornburg International Value Fund has returned 23% on average over the last five years. Fries notes that Japan’s population is flat and aging–a combination that’s hardly a recipe for organic growth. The other big problem, says Fries: managers’ reluctance to maximize shareholder value.

“Corporate governance is not necessarily focused on minority shareholders. It’s just a different culture,” Fries comments. For that reason, he says, “we wouldn’t invest in a Japanese company just because it has lots of cash.”

Nevertheless, Fries agrees that Japan’s persistently low valuations are attractive enough that he has recently pressed his staff to spend extra time scouring the country’s markets. He says that Japanese managers tend to be extremely conservative with their accounting–particularly with depreciation and amortization of goodwill–and this makes some companies appear to be expensive on a price-to-earnings basis. He suggests looking at a company’s enterprise multiple. That is the ratio of enterprise value (market value plus debt less cash) to operating earnings (Ebitda).

Fries likes
Toyota Motor
, which is strong in exporting, manufacturing overseas and developing fuel-efficient cars;
Nintendo
, which rolled out its phenomenally successful Wii gaming system in 2006; and Komatsu, whose construction and mining equipment has been in high demand during the worldwide infrastructure expansion.

Eveillard is more optimistic about the Japanese economy, as he foresees possible resolutions to the country’s demographic and management issues. “We are value investors, and everything has a price. If the valuations are low enough, we don’t expect perfection.

***

Investment Guide

Just One Stock

Andrew T. Gillies, 12.08.03

The bulls in our annual Love Only One stock-picking contest blew past the S&P 500 in 2003. Bets for 2004: Aventis,
Liberty Media
and 15 others.

If you could have a single stock in your portfolio for the next year, which would it be? That’s the question we put to 17 investment pros each autumn. Five give us short picks, the rest go long, and anyone who beats the market is asked back for another year.

The bulls ended the 2002-03 contest with a collective 30% gain, versus 19% for the S&P 500 index. But propelled skyward by a pair of rebounding microchip stocks–
Intel
and
KLA-Tencor
–our bears selected stocks that rose anaverage 44%, no fun for a short-seller.

Richard Driehaus headed our bulls with a 114% increase on Nextel but declined our return invitation. Not sofor Joseph Zock, who took the silver medal with Cendant’s 78% surge. Zock, president of Capital ManagementAssociates, re-ups with shipper CNF. Reason: An improving economy means more stuff to haul.

The only bear to survive the last round is Bernie G. Schaeffer, who runs a research firm in Cincinnati. He foresaw trouble for
Pfizer
last year; the stock shed 1% over the course of the contest. For the year ahead, Schaeffer tags
Johnson & Johnson
for a short sale; he sees trouble in both the Procrit anemia drug and stent businesses.

Among the returning bulls are several Love Only One veterans. Richard Cripps, chief equity strategist for
Legg Mason
, is back for his fifth consecutive year. This time around he goes for
Bank of America
, which he thinks was unduly sold off following the announcement of the FleetBoston merger and looks cheap at 12 times trailing profits.

Eveillard, a true value connoisseur and manager of the First Eagle Global Fund, sniffs a bargain in Liberty Media. By his tally the holding company’s assets, including stakes in the Discovery Channel and the QVC shopping network, are worth 30% more than what all of Liberty now fetches in the marketplace.

Eight bulls make their Love One debut. As portfolio manager with value shop Third Avenue Management, Yang Lie handles the firm’s investing for private clients as well as pension funds,universities and exempt entities. She tells us
Cross Country
Healthcare, a health staffing firm, is timely and sports a reasonable price tag of 1.4 times book value.

Owen Fitzpatrick heads up U.S. equity investing for
Deutsche Bank
‘s Private Wealth Management unit. He puts his chips on
Viacom
, suggesting the media conglomerate will ride a rebounding ad market, particularly on the radio side.

Barry Diller’s
InterActiveCorp
, parent to
Expedia
and LendingTree, looks good to Jeffrey Lindsey, who oversees $10 billion as the head of State Street Research’s various growth investing portfolios. “Online businesses are fabulous cash flow generators when they work well,” he says.

We get a Hawaii-based pick from Kevin McClintock, the chief investment officer for money managers David L. Babson & Co. in Cambridge, Mass. McClintock likes Honolulu’s
Alexander & Baldwin
, which has interests in real estate, ocean transport and sugarcane. “The weak dollar against the yen is boosting Japanese demand for Hawaiian land,” he says.

Finally, two international prospects. Sarah Ketterer, chief executive at Causeway Capital Management in Los Angeles, sees a bargain in Strasbourg, France-based Aventis and says that sales of its cardiovascular, cancer and diabetes drugs will remain strong.

Oppenheimer Capital’s Elisa Mazen, who runs an $800 million value portfolio, picks Dassault Systèmes. She deems the French outfit–which has 20% of the market for software for designing buildings and factories–inexpensive relative to its history.

Four new bears join the 2004 roster. Morton Cohen runs Clarion Group, a $162 million fund company in Cleveland. He wants you to short
Bradley Pharmaceuticals
, valued on Wall Street at five times its $52 million in sales. Cohen says Bradley’s flagship skin cream product, Carmol, faces new competition.

Henry Van der Eb, who manages the $71 million (assets) Gabelli Mathers Fund, singles out Canada’s
Research in Motion
, the maker of the BlackBerry. “Classically overvalued on fundamentals,” he says. Its shares sell for 54 times projected profits.

President and portfolio manager at Los Angeles quantitative boutique Analytic Investors, Harindra de Silva signs up with a rap on Teco Energy. The Tampa-based utility, he argues, is beset by short-sellers and belongs to a sector that has historically lagged the market when the economy turns up.

Finally, Mitchel Zacks, vice president of Chicago-based Zacks Investment Management, puts a hex on Scientific-Atlanta, the maker of cable set-top boxes. A price of 27 times forward earnings is rich for a company whose growth is tapering off.

***

Investment Guide

The Not-So-Underdogs

Heidi Brown, 06.09.03

For 25 years two unlikely French mavericks have fought for respect–both on Wall Street and in the courts.

To value managers Jean-Marie Eveillard and Charles de Vaulx, fads like momentum investing are irritating. In the late 1990s, when the markets were bubbling like overheated oil, the two managers of First Eagle Funds lost half their investors to competitors riding the growth wave. Today, as Wall Street reexamines the way it values companies, Eveillard has little but contempt for U.S. investors’ stubborn reliance on the newfangled metrics of the boom years.

“Who cares about Ebitda?” he says in his emphatically French way. “We look at [free] cash flow, which is the only way to value a company. If I were buying the store on the corner, I would look to see how much money was in the till in the morning and then how much at the end of the day.”

That unsexy methodology has gotten the two contrarians’ First Eagle Overseas Fund (assets: $2 billion) the top spot on Lipper’s three-year and five-year performance rankings for international funds. Their First Eagle Global Fund (assets: $2.7 billion) ranks well, too, with a No. 2 position for three-year performance and a No. 3 for its five-year track record. Since inception, all four of their funds have consistently beaten their benchmarks.

Eveillard and De Vaulx cling stubbornly to old-fashioned value investor principles. Because of this, they were left in the dust during the bull market of the late 1990s, when stocks that had modest price/earnings ratios, cash in the bank and dividend payments were decidedly out of vogue. Intellectually, they were right, but seemed at the time to be fuddy-duddy traditionalists who just didn’t get it. “We lost half our investors,” says De Vaulx, “but we didn’t lose half our money.”

Now they see themselves as crusaders for transparency and fair value in a financial world that is often opaque and crony-controlled. Two years ago they took on the low-profile but vastly powerful Bank for International Settlements, essentially the central bank for the world’s central banks. BIS had unilaterally decided to buy back the shares of its private shareholders. Eveillard and De Vaulx were outraged at the price the Basel-based institution offered–SF16,000 per share (roughly a 10% annual return on their BIS stake, which was built up over a number of years). They sued in the international court in The Hague, claiming the bank’s board was cheating them and two other shareholders of 47% of the stock’s value. Last November the court found for the plaintiffs, awarding them about SF24,000 per share. The victory may have been sweet, but it was partial: The suit had asked for SF34,000, and the ruling cannot be appealed.

Eveillard is typically outspoken: “Our point was that the board of directors of the BIS included central bank governors, including [U.S. Federal Reserve Chairman Alan] Greenspan,” he said. “And all of them signed off on the atrocious squeeze-out by the bureaucrats in Basel. And we’re still [upset]. They gave us, not exactly crumbs, but just not good enough.”

That issue may now be history, but Eveillard and De Vaulx are finding still other problems to get worked up over.

The Hilti family of Liechtenstein (No. 386 on the Forbes Global billionaires list) decided about a month ago to take private its Swiss power-tools company. “They offered a 31% premium, which in the short term would help the fund,” said Eveillard. But, similar to the BIS situation, there was a catch: “They offered SF1,150 per share. We think the company is worth SF1,500 to SF1,600.” Ernst & Young, which provided the fairness opinion, was not obliged by Swiss law to disclose why it thought the price was fair. This time the managers decided not to sue, as Hilti’s action was a tender offer and not a BIS-style squeeze-out, in which minority shareholders were forced to give up their holdings. Eveillard: “So we didn’t go after the company–we went after the appraiser, a member of a profession which has been largely discredited.” They took out space in a newspaper lambasting Switzerland’s disclosure laws but in the end sold most of their Hilti shares to avoid holding illiquid securities.

Buderus, too, is a puzzling source of irritation to the feisty Frenchmen. The German heating-equipment manufacturer, which is the largest holding in the Global Fund and the third-largest in the Overseas Fund, in early April was the target of a takeover offer by Robert Bosch, the auto-components maker. Buderus is strong in big, floor-mounted boilers, while Bosch up to now has specialized in smaller, wall-mounted boilers and water heaters. Bosch had been interested in Buderus for more than a year; it recently succeeded in convincing Bilfinger Berger, a construction company, to part with its 30% stake on advantageous terms.

“In order for the transaction to go through,” explains De Vaulx, “Bosch needed Bilfinger’s approval. A year ago Bilfinger wanted more than 35 [euros per share] and now has agreed to 29.” Adds Eveillard: “We made a ton of money–we more than doubled–but 29 is still too low, and then what do we do with the cash?”

In any case, Eveillard, De Vaulx and their six researchers had a lot of new cash to spend on the next Buderus. They don’t spend all their time planning assaults on the financial establishment. Most of their work–poring over the fine print in balance sheets and evaluating companies that many other investors have abandoned–is tedious and meticulous. (“We didn’t buy Enron because we read the footnotes,” quips De Vaulx.) They look for companies anywhere in the world that are generating cash–whether it’s a Japanese bicycle parts maker like Shimano or
McDonald’s
. In both cases, investors were jettisoning shares after growing weary of slow profit growth.

With McDonald’s, which is one of the Global Fund’s top ten holdings, First Eagle is betting on the new management’s decision to toss out its growth strategy and look at the business as a cash generator. McDonald’s wants to reduce its capital expenditures, with top-line growth of no more than 3% to 5% per year. “I think maybe the attitude of investors is changing a bit now,” Eveillard observes. “There is less emphasis on growth at any cost.” Still, he worries that consumers may have moved on to other chain eateries. “The more ambiguous question,” he continues, “is more long term and may be true of
Coca-Cola
: Is it passé? But we don’t worry too much. The business would not collapse tomorrow, only slowly decline.” After a three-year slide, McDonald’s shares closed at $16.95 on May 20, 40% higher than their mid-March low of $12.12.

Another contrarian holding is the much-derided Tyco, which makes up a hefty 2.4% of the Global Fund, which owns the company’s common stock and bonds. Tyco, having survived an alleged pillaging by its former chairman and top lawyer, just admitted to more than $1 billion of accounting irregularities on top of $6 billion in adjustments over the past year. The footnote-followers at First Eagle took this in stride, as did other investors, sending the company’s shares higher as it released the unexpected news, perhaps because it also said its cash flow would beat forecasts.
Moody’s
Investors Service also was unfazed, maintaining its Ba2 grading on Tyco debt. “Let’s hope there’s an end to it,” says Eveillard. “Still, it’s not extremely negative. The company showed they made a ton of free cash flow.”

Beaten-down Japan is definitely a favorite hunting ground, varying between 10% and 18% of the international funds’ assets. After 13 years of sliding, the country’s stocks cannot help but be rife with opportunities for balance-sheet sleuths. “Values for small- and mid-cap Japanese companies are reminiscent of 1973 and 1974 in the U.S., with no major cash burn,” says De Vaulx. “Most of our companies are overcapitalized, as opposed to having too much debt, and some are buying back stock. This is often being done at the demand of troubled banks who own stock in the companies.” A typical contrarian Japanese play is Okumura, a construction company that was profitable but now simply has net cash. Since it’s still paying dividends at a 2.6% rate, the decreasing profits aren’t all that important. If the yield seems meager, keep in mind that adjusting for inflation, you get an adequate return.

First Eagle is owned by the private bank Arnhold & S. Bleichroeder. It bought the funds managed by Eveillard and De Vaulx from Société Générale in 1999 after Liberty Financial backed out of an earlier deal. “Bleichroeder was attracted by our emphasis on capital preservation,” says Eveillard. (No wonder First Eagle manages some of the banking family’s money.) “SoGen botched the sale of our business to Liberty Financial–but Liberty understood it was paying too much.” Lucky thing. “I could have been working for Fleet of Boston! Puke!”

Eveillard and De Vaulx are orthodox value investors, with a time horizon of at least five years and no shorting. “It’s already difficult to long securities; it’s much harder to be skillful at shorting,” says De Vaulx.

In addition, their funds tend to have substantial amounts of cash: The U.S. Value Fund (assets: $83 million) has 16%. Normally that would make investors balk at funds that charge retail investors either a 5% front-end load or an annual distribution and marketing fee of 1%.

But minimum investment levels of just $1,000 have helped attract more than 100,000 investors to the Global Fund alone. In fact the Overseas Fund has more than doubled in size, adding almost $1 billion since the beginning of the bear market in 2000. “We understand absolute returns,” says De Vaulx. “I want to look in the mirror when I retire and say I made a few people’s lives less miserable. You can’t eat relative performance.”

Watching their investors flee during the bubble wasn’t easy, but Eveillard and De Vaulx are avowedly against the idea of market psychology–which was mainly what was fueling the run. “It wasn’t very pleasant,” says Eveillard. “We acknowledge that trying to figure out market psychology is a perfectly legitimate approach. But it’s not ours. Our attitude is, this is not a sprint–this is a long-term race. As Ben Graham said, the stock market in the short term is a voting machine, and long term it’s a weighing machine.”

***

SoGen funds finds a new home, keeps old style

Nanette Burns, 10.23.99, 12:00 AM ET

Even a broken watch shows the correct time twice a day, n’est-ce pas? So contrarian fund manager Jean-Marie Eveillard may see his luck turn–if his investment style regains popularity and things go well at his new home once French banking Socit Gnrale spins off his unit.

It’s certainly time for Eveillard to get a break. He suffered a punishing 1998, when his flagship fund declined 0.26% and net redemptions ranged from $100 million to $200 million a month. But now monthly net redemptions have slid to about $50 million, as some investors have regained interest in his value-oriented global investing style.

Year-to-date, Eveillard’s flagship international fund is up 11.85%, bettering its peers, which averaged 10.86%. The smaller Overseas fund has seriously outperformed competitors this year, returning 24.13%, versus 13.49% for its peers. And the once lackluster Gold Fund–which Eveillard was on the verge of pulling the plug on–is now up 23.30% for the year, compared with an industry average of 13.17%.

“A lot of people made a mistake pulling money out of those funds based on a year of poor performance,” says Morningstar analyst Hap Bryant.

Now Eveillard will follow in the footsteps of such luminaries as George Soros, Walter Oechsle and Jim Rogers, money managers who each passed through Arnhold.

Eveillard’s apparent recovery isn’t due to a rosier global economy, analysts say, but his keen stock picking. He is a classic value investor, scouring the world for obscure small-cap firms that he feels are either undervalued or likely acquisition candidates. And he is patient.

Consider his $1.8 million investment in Promodes, a French retailer. He spent a dozen years accumulating 250,000 shares of voting stock at a deep discount in the then-private company. Two months ago, French retailer Carrefour acquired Promodes, making the merged company the world’s second-largest retailer after
Wal-Mart
. Eveillard’s shares are now worth $42 million.

But Eveillard’s approach has often been out of sync with his bosses in Paris. The French-born money manager has been based in New York since 1978. Socit Gnrale tried to sell the fund group to Liberty Financial earlier this year. The failure of this deal caused further embarrassment for Eveillard. But this month, the French bank struck a deal with New York-based Arnhold and S. Bleichroeder. Now Eveillard will follow in the footsteps of such luminaries as George Soros, Walter Oechsle and Jim Rogers, money managers who each passed through Arnhold.

Arnhold has agreed to buy 80.1% of the fund group for an undisclosed sum. Eveillard owns the other 19.9%, and plans to keep it that way, something that Liberty was not about to let him do. Eveillard says he plans to make a big pitch to investors over the next few months about why Arnhold and SoGen will be a great fit. “They understand our investment style,” asserts Eveillard, who says he has known the firm’s co-president John Arnhold for ten years.

But the investment bank is not going to convince the value-oriented veteran to alter his investing style one bit, Eveillard says. “I’m a one-trick pony. If I became a growth manager, I’d be the worst of them. I’d be a fish out of water,” he says.

So whether you choose to put your money with Eveillard depends entirely on if you buy into his investment philosophy that small undiscovered gems lie all over the globe. “Clearly there will be times when his approach will work and times when it won’t,” says Michael Lipper, president of the rating agency that bears his name.

Lexington, Mass.-based Pillar Financial Advisors invests a third of the overseas money that it manages for clients who prefer mutual funds in the SoGen Overseas Fund, according to Beth Gamel, a Pillar financial planner. “We have a lot of confidence in Jean-Marie,” says Gamel. “He does such thorough research on the companies. This is not just a portfolio created by a computer.”

But Pillar used to apportion closer to half of overseas money in the SoGen fund. And even Gamel, an avowed Eveillard fan, admits that Pillar came close to yanking the rest of its money out after last year’s sharp decline. Had the fund continued to disappoint this year, she says, “we probably would have dumped it.”

The Eveillard Interview

Value Investing

Steve Forbes: Jean-Marie, thank you very much for joining us.

Jean-Marie Eveillard: My pleasure, Steve.

Forbes: You have been called a value investor. Can you define what you mean by value investing?

Eveillard: Well, value investing, it, as you know, it’s Ben Graham, who in the ’30s, found the value school–founded the value school. And it’s the idea that you look at businesses, you try to figure out what they’re worth. Not in terms of the next quarterly earnings, but what, if you have the cash, what kind of price you’d be willing to pay for it today, for the entire business.

And then, later on, Buffett, who had worked with Graham, made successful and extensive adjustments to the teachings of Ben Graham, where, while Ben Graham had been mostly quantitative, sort of static, mostly balance sheet-derived, Buffett introduced the idea that there was a qualitative side, that you try to figure out the major strengths and weaknesses of a business and that what you were trying to identify was the extremely limited number of businesses where, after doing a lot of homework, you came to the conclusion what the odds were good–[though there was] no certainty of course–that the business would continue to create value, not just over the next quarter but over the next five or 10 years.

And if you could buy that business at a discount, although theoretically at no discount, then most of the money you would make would be made through the business continuing to create value in the future. So the value school encompasses a large number of ideas in between Ben Graham and Buffett.

Forbes: And it means you don’t go in for short-selling?

Eveillard: No, because short-selling is difficult. Short-selling, you cannot sell short without taking into account market psychology. And value investing, if you’re a value investor, you’re a long-term investor, not a short-term trader.

Ben Graham said, short-term, the stock market is a voting machine; long-term, it’s a weighing machine, weighs the realities of a business. Short-term you have the market psychology. If you’re long and you’re short-term, you’re in the hands of market psychology. If you sell short, you’re also in the hands of market psychology. I’ve never sold short.

Forbes: What are some of the specific characteristics you look for in value investing? Do you try to size up a management? Do you look at cash flows? What kind of metrics do you use that you find particularly helpful? EBIT I don’t think is one of them.

Eveillard: No, it is not one of them. Although we are partial in terms of valuations to enterprise value to EBIT, because enterprise value introduces a balance sheet, which price-earnings ratio does not. And EBIT admittedly–earnings before interest and taxes–interest and taxes have to be paid, but to the extent that not always, but most of the time, we buy the stocks of companies that are financially safe, as Marty Whitman puts is, and where there is very little or no debt, then there is no interest expense. And as far as taxes go, I’ve always been somewhat suspicious–well, except in countries such as Hong Kong, where the corporate rate, your official corporate rate is very low. Otherwise, I’d be somewhat suspicious of companies where the tax rate is lowered. I figure that either they’re cheating the tax authorities and maybe the authorities would catch up with them, or they’re overstating their profits.

Forbes: That’s a very interesting point and you’ve made that, that if there’s a statutory rate of 35, put aside whether it should be that high–it is. And if it’s much lower, red flags should go up. Is that why, for example, you wouldn’t have gone into a company like GE?

Eveillard: That would be one reason. The other reason would have been, we didn’t go into GE, the other reason being that as somebody once put it, I wish I had come up with the formula. It’s a combination metal bander and hedge fund.

Forbes: Cash. Are you advising funds now to stay heavily in cash in an environment like this?

Eveillard: Well, cash is more like a reserve indicating, you know, possibly a lack of investment opportunities, which happens sometimes. Sometimes it’s unfortunately only a function of my not looking at the right places. And particularly cash today, where it yields nothing practically everywhere, almost everywhere throughout the world, and since the, you know, as you know, the currency tends to be debased a little bit. If you’re not being paid to hold cash, cash truly has to be looked at as a reserve, as something which will be reduced as soon as you see investment opportunities.

Forbes: So you see a lot of investment opportunities these days?

Eveillard: Well, as a value investor, there are fewer investment opportunities today.

Forbes: Since the spring?

Eveillard: That’s right. Exactly. Because stock markets throughout the world, not just in the U.S., are up 40%, 50%, 60% from the March lows. Incidentally, I think the March lows, I think investors or traders who were selling at the beginning of a year, where there was some forced selling, but there was also, I think, some investors who thought that the deleveraging, the ultimate outcome of the deleveraging would be a return to the Great Depression.

And if indeed that we were looking at a return to the Great Depression, you don’t want to own, that’s a killer for common stocks. But I never thought that there would be a return to the Great Depression because in a pure paper money system, there are no constraints. Well, except the possibility later on, but in the immediate sense, there are no constraints to the monetary authorities.

Forbes: Perpetual ATM machine.

Eveillard: That’s right. And I’m not a great fan of Mr. Bernanke, but I think he was right when years ago, he said, “Hey, in a pure paper money system, you can always increase nominal spending.” In fact, he took–because he’s not very original–he took an idea from Milton Freidman.

Forbes: The helicopter?

Eveillard: Exactly.

Insure With Gold

Forbes: You still believe in gold as the ultimate calamity insurance?

Eveillard: Yes. As the late Peter Bernstein used to say, it’s insurance against extreme outcomes. And it seems to me that if you look at the various, you have the gold standard before World War I, you had the gold exchange standard after World War I, you had the Bretton Woods system beginning in 1945. And, you know, it became softer as time went by. And then, in 1971, then-President Nixon closed the gold window and it was a pure paper money system. And it has gone on for almost 40 years, and I think it’s fraying at the edges.

Forbes: Playing that, are you surprised how long it lasted, going on a pure paper system?

Eveillard: To some extent. Because, and there we get into the, if I may, we get into the Austrian school. The Austrian school, as you know, in the ’30s, they said, “Hey, it’s not enough to have overall prosperity and low inflation,” which is exactly what happened in the ’20s, Roaring Twenties. You have to be careful not to let a credit boom go on too long and be too strong, because you’ll get a credit bust after a credit boom, just like night follows day.

And that’s exactly what happened in the ’30s. But the credit boom in the ’20s, it was powerful, but it went on only for, I think, seven or eight years. In the U.S., the credit boom, you could argue the credit boom began in the early ’80s, and with some interruptions, went on for 25 years. And towards the end, you know, I think sort of accelerated. And then in 2007, we got the credit bust.

Creating Bubbles

Forbes: You’re not a fan of either Mr. Bernanke or Mr. Greenspan?

Eveillard: No.

Forbes: The point being that whatever you might think of Wall Street or bankers or whatever, we could never have had the bubble of the size we did if the Fed hadn’t printed the money.

Eveillard: That’s right. And I think to some extent, Mr. Greenspan and Mr. Bernanke are victims of the idea that markets are fully efficient. If markets are completely efficient, then there cannot be a bubble from their standpoint. And indeed, the reluctance of Mr. Greenspan as a result, the reluctance of Mr. Greenspan to try and identify bubbles. He said, “I can’t.” So I mop up after the bubble bursts.

Forbes: But of course, in terms of markets, the markets were distorted by what the Fed did.

Eveillard: Yes, considerably in the beginning. Of course, you know, as you pointed out with Mr. Greenspan, where after the dot com bubble burst, he kept short-term interest rates too low, too long, thereby, I mean, money was not only available widely, it was cheap. And so, that’s when the credit boom truly degenerated.

BanksAre Hedge Funds

Forbes: You said in the spring of 2007, to your credit, you said the tail end of the global credit boom is at hand. And you were manifestly right. You never fell into the trap of saying, “Well, the banks look cheap because their stocks have taken a hit.” Please explain your observation that you said, “Banks are disguised hedge funds,” became disguised hedge funds.

Eveillard: Steve, I’m old enough to remember when banking was a fairly simple, almost utility-type business, where the bank took deposits and made loans to the local businessman, to individuals, etc.

And it was not a highly profitable business, and bank stocks sold cheaply, at book or slightly above or below book. They were looked at, I think, by most investors, a little bit like electric utility stocks, whereby you got a decent yield, there was not much growth, and the profitability was not great, but they were looked at as safe investments for widows and orphans. And then, as time went by, and I think beginning with a gentleman who used to run Citibank in 1970, when he said, “We’re gonna grow our earnings per share 15% a year forever.” Banks became something different in the past 10 years or more. They became disguised hedge funds because of the importance of proprietary trading, and for other reasons as well.

Forbes: If you were reviving, or revising, I should say, the regulatory system, what new basic principles would you put in place, that if you want to engage in proprietary trading, you have to have a separate entity that could be allowed to fail? What kind of reforms?

Eveillard: I think that’s probably a good idea, that banking would be two separate businesses: One, traditional banking, and the other, your proprietary trading and etc. where a higher amount of capital would be required, and where the bank, the operation will be allowed to fail if necessary. An operation that would not be taking deposits from the public.

Forbes: And everyone would understand the rules at the beginning?

Eveillard: That’s right.

Adding More Debt

Forbes: Given your understanding of what they call fiat money, paper money, and given what a severity of this financial crisis, what kind of, do you think, first, will the recovery be of the post-World War II pattern, or is this going to be entirely different? We’re in a new field?

Eveillard: Yes. Steve, I think that’s one of the key questions. I don’t pretend to have an answer to it. I think there is a possibility that the authorities manage to lever up the system once more, in which case, you might have a traditional post-World War II economic recovery. It would go on. It would be sustained for three to five years.

Or we’re in a new economic and financial landscape after the worst financial crisis since the end of World War II. And then, there is a possibility that the recovery, I think there is enough stimulus in place today, monetary and fiscal, to stabilize, at least temporarily, the economy, and maybe to let it recover a bit.

But the key question will be, will that recovery be sustained next year, or will it at some point next year peter out? You know, the Austrians, what worries me a little bit is that the Austrians may be wrong in that respect. But they tend to say that.

Forbes: Or perhaps we get into psychology. People have learned too much or have been burned too much to take the drug again.

Eveillard: That’s right.

Forbes: Even if it’s available.

Eveillard: That’s right. That’s one side to it. And there are also the idea that adding debt if too much debt was the problem, adding debt on debt, how can that be the cure, and how can that truly work, except, you know, very briefly?

So incidentally, in Peru of all places, I ran across a professor at the University of Lima who is of the Austrian school.

Cautious In Japan

Forbes: It’s nice to know there’s some good thinking around the world. So in addition to gold, are you still bullish on Japanese stocks? Or are you becoming more cautious on them?

Eveillard: I’m more cautious in the sense that they have moved up, too, since March. And incidentally, I mean, I was reading, it’s not a book that’s particularly attractive, except that there are plenty of anecdotes, some of which I found sort of illuminating. What one of the French writers called a petit fais vrai, the small item that reveals the truth.

And there are world-class, industrial businesses in Japan where I think the stocks are undervalued simply because nobody, either the locals or the foreigners, is really interested in Japan. And not simply because there are demographic problems, not simply because the Japanese economy has been stagnating, like, forever. But also because if you talk with a Japanese individual and you tell him or her equities are the long-term asset of choice, since the Tokyo stock market today is about 70% or 75% below where it was 20 years ago, I mean, a bear market goes on for, with a few brief interruptions, it goes on for 20 years. Investors get discouraged. So I think there is some kind of [feeling that] investors barely want to look at Japan.

Forbes: Is that why you think the Tokyo market is, as you’ve put it in the past, “inefficient”?

Eveillard: It’s one reason. There are other reasons that have to do with the fact that, as you know, there are no acquisitions that can be truly hostile.

Forbes: Right. Too many understandings.

Eveillard: Yeah. That’s what I was talking, at an average below what the business is truly worth, because investors know that nobody will make a pass at the company, because acquisitions cannot be hostile.

Forbes: Do you still find, though, Japanese equities attractive, because companies, certainly the large ones, do have a tendency to have globs of cash. Casualty insurance companies have even more cash.

Eveillard: Well, that’s an interesting point. Because for a long period of time, investors said to companies, “Well, you have to optimize your balance sheet.” Which of course is code for taking on debt, buying back your stock, and etc. But you know, in the midst or after a major financial crisis, companies that are sitting on cash–and that includes Japanese companies–they are in a position where they will emerge for whenever that comes from the current rut a lot stronger than their competitors who are burdened with debt. And there are some industrial companies in Japan where I think currently they are getting even stronger than they were vis-a-vis the European or American competitors.

Forbes: What companies come to mind?

Eveillard: Fanuc, which is best known for its robots, but actually, what’s more important is numerical controls for machine tools, which is, in essence, software, and where they truly dominate the field. And they are sitting on a ton of cash. And I think they are getting stronger in the process. And SMC, which is less dominant … is involved in–don’t ask me to define it–in pneumatic equipment, which is gaining market share vis-a-vis hydraulic equipment. It’s machinery, basically. And an American competitor is Parker Hannifin, and where I think SMC is gaining market share at the expense of Parker Hannifin, not so much because Parker Hannifin has a lot of debt, which they don’t, but because Parker Hannifin is, like many American companies, a little bit of a slave of Wall Street. And Wall Street tells them you have to increase your earnings per share as much as you can in the short term, which sometimes works to the detriment of the best long-term interests of the business.

Looking to the Future

Forbes: Now, some say Japanese companies have the luxury of being long-term. How do you distinguish between those who truly think long-term and those who say, “Well, we don’t have the pressure of quarterly earnings. Therefore, we can sit on our hands and just stagnate”?

Eveillard: Some do. And some, you know, management is lazy or lackadaisical because they know the company will not be the victim of a hostile takeover. They know that they’re sitting on so much cash that they truly would have to lose money for a great number of years before the company will go bankrupt. And they’re just sitting there not doing much. There is, you know, that side as well.

Forbes: You once made the observation about South Korea that South Korean companies you find are more adaptable than Japanese companies. Could you explain that?

Eveillard: Yes. You know, at the time of the Asian crisis, Korea–not just Korea, but other Asian countries as well–they went to the IMF for help. And the IMF said, “Tough beans. You have to take your medicine.” The IMF, which, as you know, is dominated by the U.S. government. “Tough beans. You have to take your medicine. It’s going to be harsh, but if you don’t, then we will not lend any money to you.” And they didn’t. In a sense, what the IMF, probably without thinking so, was saying, “Hey, this is the Austrian solution.” You have to correct at least most of the major excesses that sort of pervaded during the credit boom.

And that’s what happened to Korea. And that’s what never happened, of course, to the U.S., never happened to Japan. And the Koreans, willy-nilly, had to make–and the Indonesians as well–they had to make the adjustments. And they proved to be so adaptable that the adjustment did not take forever. I mean, there were two or three years that were very painful, and then the South Korean economy recovered.

Forbes: What South Korean companies do you like today, or have they become overvalued?

Eveillard: I mean, shortly after the Asian crisis, most South Korean stocks were selling for a song. That’s no longer true.

I think Samsung Electronics, I think is truly a very powerful company from a technological standpoint. And it’s a company that’s quite cyclical. But it’s a stock that never really got the aura of many other technological companies.

Forbes: China. You still staying away from China?

Eveillard: Well, we don’t really stay, well, we restrict ourselves to the stocks, Chinese stocks that are listed in Hong Kong.

Forbes: In Hong Kong.

Eveillard: Because from an accounting standpoint, we’re better protected in Hong Kong. Looking out five to 10 years or more, there is very little doubt in my mind that the East is rising and the West is declining. That does not mean that there will not be investment opportunities in companies in the U.S., in Europe or in Japan. Would it be only because many of those companies are global in scope, and many American companies, for instance, do already a lot of business with or within mainland China. But China, India and the smaller countries in Asia, if you look strictly from the standpoint of consumer spending, I think the American consumer, the British consumer are tapped out, which means for the next three to five years, the outlook for consumer spending is not good.

But at the other extreme, you have the Asian consumer, who is not leveraged. Indeed, corporations are not heavily leveraged in Asia, either, and the governments neither. And also, you have governments in Asia [that] understand that the export-based model is dead.

Forbes: Right

Eveillard: Or half dead. And that they have to move. I will happen very progressively. They have to move toward a business model that’s much more rooted toward domestic consumption.

Forbes: Sort of what the U.S. did in the 19th century.

Eveillard: That’s right. And so the outlook for consumer spending, there will be bumps around the world, in Asia, also Japan. Probably Asian stocks are overvalued today. But looking from a very long-term standpoint, we who never did much historically in emerging markets, I think my successor and I, we understand that over the next five to 10 years, we’ll have at least to do a lot more work than we used to in Asia, outside Japan.

Japan’s New Govt

Forbes: One quick question on Japan. What impact do you think the new government will have? Is that going to upset the apple cart?

Eveillard: I think at worst, neutral. Nothing much changes, because so far, change has taken place at a glacial pace in Japan. Or something will change. I mean, the Democratic Party of Japan has already indicated that they wanted to place more emphasis on domestic consumption. Whether they can do so, in particular in view of the constraints associated with the very heavy indebtedness of the state, I don’t know. But I think it’s at worst neutral, and at best, better than neutral.

Forbes: What other areas do you find attractive for investment right now?

Eveillard: Well, as I said from a very long-term standpoint, Asia outside Japan, which I think although there will be, of course, investment opportunities in Brazil, maybe possibly even in Russia someday, and in central Europe, in the rest of South America, I’m more inclined toward Asia, outside Japan.

In a more immediate sense, I think it’s more–as I said before, I mean, all stock markets have moved up very sharply since March. It will more be a function of specific securities from the bottom up, as value investors like to do, from the bottom up here and there.

Forbes: You once observed about newspapers in this country, that you found them utterly boring. You find them bargains now, or do you think they’re going to continue to shrink?

Eveillard: Look, that’s an interesting question. Because some of the newspaper stocks have come down, you know, 80%, 85%, 90%. I think if … and also, newspapers companies make adjustments in terms of costs under pressure. They’ve reduced their break-even point. But if newspaper companies were able to charge for their content online, I think that would make a hell of a difference. Now, whether they will be–Mr. Murdock pretends that he’s going to do it–whether they will be able to do it or not, I don’t know. But still, as long as the newspaper companies don’t reduce their staff of journalists to the point where, you know, the content is not what it used to be, that content is worth something.

LookDown

Forbes: Finally, as a former portfolio manager, what would you tell portfolio managers today? What’s the one hard-rock lesson you would try to impart to them?

Eveillard: I would tell my friends among value investors who, I think value investors, they’re bottom-up investors. Most value investors pay no attention, or very little attention to the top-down: interest rates, the economy, etc. Currencies. And it served them well for decades, until in 2008, it didn’t.

And I would tell them, you know, continue to be bottom-up as much as you can, but keep an eye on the top-down, because there is a possibility–I’m not saying there’s a probability, and it’s not, obviously, a certainty. The future is unknowable. But I mean, Ben Graham used to say, “the future is uncertain,” which is a statement that sounds obvious. But there is no lack of people on Wall Street who pretend to know what will happen. And so, I would say to my friends, value investors, keep an eye on the top-down, because there’s a possibility that the economic and financial landscape has changed.

Forbes: So in other words, study Von Mises?

Eveillard: Yes. I mean, the two economists who have dominated the post-World War II period, as you know Steve, are Keynes, and then, in the late ’60s, the Keynesians, beginning of the ’70s, the Keynesians or post-Keynesians or pseudo-Keynesians were discredited because of the inflationary ’70s. And Milton Friedman surfaced. And so Keynes and Friedman have dominated the scene in the post-World War II period.

And both of them are extremely, you know, important economists, there is no doubt about it. But nobody, you know, paid much attention to the Austrian school. And neither Keynes nor Friedman paid much attention either, to the phenomenon of, you know, credit boom and credit busts. And I think the Austrian school today is more interesting, to at least have some understanding of it, than it ever was.